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The United States Natural Gas Fund (UNG) announced in an 8-K filing with the Securities and Exchange Commission (SEC) last week that as of July 7 it had issued all of its remaining limited partner units to the investing public. Total units outstanding in the fund surged to a record 347.4 million units on Wednesday as investors continued to pour money into it, despite the recent downturn in U.S. natural gas prices. Total units outstanding in UNG have increased 34% since June 25, even though the fund's current benchmark -- the August New York Mercantile Exchange (Nymex) Henry Hub futures price -- has fallen 16% over the same time period.

With no more units to issue, the fund "will temporarily suspend the issuance of additional creation baskets," or limited partner units, until the SEC approves UNG's recent shelf filing, UNG said.

On July 5, UNG registered for an additional 1 billion units with the SEC, which, if granted, would give it the ability to more than double its current units outstanding. Some analysts are concerned that if the fund is unable to issue more units, demand for current units could inflate UNG's market price above the value of its holdings. However, market pundits say arbitrage opportunities should prevent the value of the units from rising too far above the net asset value of the fund.

UNG further noted that the 32.1 million units it had left to issue under its current shelf registration as of June 29 were all issued the very next day. The fund had 281.4 million units outstanding at the end of trading July 6.

The recent happenings with UNG couldn't have come at a more interesting time as the Commodity Futures Trading Commission (CFTC) revealed plans last week to host a series of meetings through August to determine whether it should establish speculative limits on certain commodities, including natural gas (see related story). In a filing with the CFTC in early June, UNG management said that as a passively managed commodity index fund with a "neutral" investment strategy, the CFTC should free it and other exchange-traded commodity index funds (ETF) from position limits and grant them "no-action" status with respect to their activities (see NGI, June 29a).

As investors gobbled up the last of the remaining UNG units, the fund significantly increased its position in the August IntercontinentalExchange (ICE) Henry Hub swap contract. The fund added a combined 95,000 prompt month ICE swap contracts on Tuesday and Wednesday, bringing its current total to nearly 340,000.

While at least one media report noted that UNG now owns an equivalent of 124,926 natural gas contracts, which would constitute 86% of the total August open interest position, that overall percentage could be misleading because the calculation does not factor in the open interest in swap contracts. UNG only holds 27,203 actual August Nymex contracts. Its remaining positions are spread among August swap contracts traded on Nymex and ICE. ICE does not publish open interest data for its exchange traded swap contracts.

"It looks like [the media outlet] is taking UNG's Nymex and ICE number and combining it to equal 86% of the Nymex. There is something weird there," said Julio Sera, a broker with Hencorp Becstone Futures LC in Miami. "As for all of the hype surrounding this fund, I don't really think their operation is doing a whole heck of a lot to this market. The intention of UNG is to track the performance of the natural gas futures contract at the Nymex."

Sera said there are a lot of misconceptions about the fund. "One of the arguments circulating out there is now that UNG has run out of units to release to the public, the best buyer in the market won't be there any more. However, that assumes they are only buying, which I disagree with. UNG has to hedge if someone wants to sell their units."

No one is said to know what the impact of UNG on the futures market is. "Now that there are no more units, there is a possibility that UNG's units will trade at a premium to what the natural gas market is trading at," Sera said. "This would bring in arbitrageurs who would come in to bid up the futures on Nymex to close in on that arbitrage opportunity. That could be supportive to the market. However, if they are forced to liquidate for any reason, that would be bearish for the market. Right now, everything out there that is being said about UNG is all hearsay and speculation as to what is really going to be the effect. Until the CFTC comes down and mandates a decision on them, I don't think that we should be getting excited one way or the other."

UNG had no pending buy orders at the end of trading last Wednesday. But just because UNG cannot currently raise fresh capital does not mean that the fund won't be active in the coming days. As one New York trader noted, "They'll be buying, but they'll be buying September (contracts), not August. And they'll probably be doing it at a loss, too," he said, alluding to the current contango market conditions in the Nymex natural gas futures strip. The August Nymex Henry Hub contract closed trading on Wednesday at $3.353, versus $3.478 for the September contract. On Friday the contango narrowed slightly as August futures closed at $3.373 and September futures finished at $3.494.

Each month UNG rolls its positions in the near month futures and swap contracts into the following month. The roll occurs over four trading days, and typically starts approximately 10-11 trading days before the near month futures contract expires. The roll into September contracts is scheduled to begin Wednesday (July 15), and to conclude on July 20. UNG has published roll dates for the rest of calendar year 2009 on its website.

UNG's performance benchmark also gradually shifts during the roll period. As explained in the fund's 2009 10-K filing with the SEC, after day one of the roll, its fund benchmark changes to 75% prompt-month, and 25% second month. After day two the benchmark moves to a 50-50 split, and so on until after day four, when the benchmark is 100% the second month contract. Thus, at the end of trading on July 20, UNG's benchmark will be the September Nymex Henry Hub contract price.

Much has been said over the last two months about the fund's rapid growth and alleged impacts on the natural gas futures market through its positions on Nymex and ICE. Late last month after sitting down with John Hyland, UNG's chief investment officer, a team of analysts with Citi Investment Research & Analysis said due to the fund's rapid growth and significant size, it could be "propping up" front month natural gas prices at the indirect expense of the back end of the natural gas 12-month strip (see NGI, June 29b).

Investor interest in UNG has soared the past few months, with outstanding units rising from 38.9 million at the end of February to 261.8 million as of June 30. To help put that in perspective, the Street.com noted that UNG attracted $1.7 billion in investor capital in June, or 14% of all new money that flowed into ETFs during the month.

UNG issues limited partnership units to the general public by issuing creation baskets, which are blocks of 100,000 limited partner shares that are first sold to a list of seven authorized purchasers. These authorized purchasers will then either hold the units for their own accounts, or disseminate them to the public in an underwriting capacity.

While the fund noted that the suspension of the issuance of creation baskets will have no impact on its ability to redeem existing units, not being able to issue new limited partnerships will certainly restrict its access to new capital. That, in turn, will impact its ability to purchase additional near month Nymex futures contracts, along with related Henry Hub swap contracts. UNG had been building its relative stake in the August 2009 Nymex natural gas contract recently, with its percentage share of open interest in the August contract rising from 13.3% on June 26 to 18.3% on July 6.

A New York City trader noted the CFTC's decision could be swayed if UNG is awarded its 1 billion unit shelf registration before then, and if natural gas prices subsequently rise. "Nobody ever seems to care that much if speculative interest rises in the face of falling prices, like it has the last few weeks. But if (natural gas) prices rise after a lot of new money enters the ring, the CFTC will take notice," the trader said.

A Washington, DC-based broker said he believes the whole UNG "hoopla" is a case of "much ado about nothing" because the market is simply too big to be pushed around by one fund. "I think these things are much exaggerated. Traders have been looking for the boogey man since the concept of a boogey man was invented," the broker told NGI. "Some traders believe UNG's position is a bullish influence on the natural gas market, but if that was the case I would think we would be moving higher. Looking at the volume and open interest for natural gas, we're really in the tank. The open interest right now is about 731,000 contracts, which is small compared to what it used to be. It has been rising recently, but it has been rising on declining prices, which is a bearish sign.

"Everyone we talk to on the subject of UNG has told us that the fund is a house of cards. It does not really track the gas price and there are all kinds of issues with the roll that they go through," he said. "Now, it seems to me the roll would kill them if they were long only because the differential is several cents. When they roll forward, they sell the current month and buy the next month, but they are buying the next month at a higher price."

The broker said he believes the markets are too big for any one factor to make that much of an impact. "These stories make for good press and that's about it," he said. "Of course there was Amaranth, but that was the market punking somebody -- and it did not last very long."

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Natural Gas Intelligence (NGI), is a leading provider of natural gas, shale news and market information for the deregulated North American natural gas industry. Since the first issue of Natural Gas Intelligence was published in 1981, NGI has provided key pricing and data relied upon daily by thousands of industry participants in the U.S, Canada and Mexico as well as Central and South America, Europe and Asia.